Smoke and Mirrors?

The September turbulence surrounding the bailout of AIG has added to an ongoing debate: whether the Treasury Blueprint's plans for an Optional Federal Charter (OFC)...

By Marlene Y. Satter|November 01, 2008 at 04:00 AM|Originally published on Investment Advisor

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The September turbulence surrounding the bailout of AIG has added to an ongoing debate: whether the Treasury Blueprint’s plans for an Optional Federal Charter (OFC) and an Office of Insurance Information (OII) will be enacted.

The controversy erupted when the American Council of Life Insurers (ACLI) and the American Insurance Association (AIA) more or less went on the offensive, reiterating their support for speedy formation of an OII and citing AIG’s near-collapse as proof that such an entity is necessary.

The National Association of Insurance Commissioners (NAIC) was quick to reassure policyholders of AIG that their policies were sound and that the 71 insurance companies that were part of the non-insurance parent company were fiscally solid. Indeed, in a statement issued the day after the bailout was announced, NAIC Commissioner Sandy Praeger said, “AIG’s non-insurance parent company is federally regulated and, therefore, not held to the same investment, accounting and capital adequacy standards as its state-regulated insurance subsidiaries.” She further pointed out that those U.S.-based, state-regulated insurance subsidiaries were the most likely components of AIG to be sold to raise revenue for the parent company, since their assets and blocks of business were of high quality. The other 176 financial services companies that are part of AIG are premium finance companies, non-U.S. insurance companies, banks, and securities firms, such as independent broker/dealers Royal Alliance, FSC Securities, and AIG Financial Advisors.

When ACLI and AIA issued their statements pushing for federal oversight, NAIC accused them of playing politics, reiterating that the state-regulated insurance companies that were part of AIG were sound and “are not the problem.” Further, NAIC explained that “the problem lies with the AIG financial holding company that is subject to federal regulatory oversight by the U.S. Office of Thrift Supervision (OTS).” That holding company, it continued, “took on more risk than they [sic] could handle” and invested in non-state-regulated collateralized debt instruments that included mortgage-backed securities and credit derivative swaps. When the housing market went south, it took these investments with it. NAIC further declared, “Even if there was an optional federal charter for insurers, and some or all of the 71 U.S.-based AIG insurance entities had selected to be regulated by the federal insurance regulator, the problem at the AIG parent company level would not have been prevented.”

Maurice Perkins, VP of federal relations at ACLI, agrees that the “insurance components of AIG were the best parts of the portfolio,” but says nevertheless that “we strongly favor the option of federal regulation.” While he says ACLI has been supportive of state regulation, he adds that federal regulation of insurance would have meant better coordination and communication between federal regulators and the state insurance regulatory system. It’s a gap, he says, that’s been created by the fact that multinational companies–ACLI members–in the global financial services industry are being solely regulated by the states. And it puts the insurance industry “at an overarching regulatory disadvantage with our counterparts in the banking and securities industry.”

NAIC has already said that such oversight would not have made any difference in the AIG case: “AIG . . . took on excessive risk and is suffering the consequences of its poor judgment.” Instead, NAIC proposes that the markets for the securities that caused the problem be made “more transparent,” so that those who buy them know exactly what they’re getting.

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